Ulta Beauty Inc

NASDAQ:ULTA

Earnings Call Transcript 2018-Q4

[Operator]

Greetings, welcome to the Ulta Beauty Fourth Quarter 2018 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded.

I would now turn the conference over to your host, Laurel Lefebvre, Vice President, Investor Relations. Ms. Lefebvre, you may begin.

[Laurel Lefebvre, VP, IR]

Thank you. Good afternoon, and thank you for joining us for Ulta Beauty's fourth quarter 2018 conference call. Hosting our call are Mary Dillon, Chief Executive Officer; and Scott Settersten, Chief Financial Officer. Also, joining us is Dave Kimbell, Chief Merchandising and Marketing Officer.

Before we begin, I'd like to remind you of the company's Safe Harbor language. The statements contained in this conference call which are not historical facts, may be deemed to constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual future results may differ materially from those projected in such statements due to a number of risks and uncertainties, all of which are described in the company's filings with the SEC. We make references during this call to non-GAAP sales and earnings adjusted for the impact of 53rd week and one-time tax related items in Q4 of 2017.

During the Q&A session, we remind you to ask one question only to allow us to have time to respond to as many of you as possible during the hour scheduled for this call.

I'll now turn the call over to Mary.

[Mary Dillon, CEO]

Thank you, Laurel, and good afternoon, everyone. The Ulta Beauty team delivered excellent results in the fourth quarter. This performance reflects an acceleration in the retail comp, primarily driven by traffic, continued strength in mass cosmetics, boutique brands, skincare and fragrance, and stable performance in prestige cosmetics. We're gaining significant share across all major categories, particularly with digitally-native brands that our guests are highly engaged with, and where Ulta Beauty is often the only point of distribution in brick-and-mortar. Solid execution of our holiday plans by our merchandising, store operations, e-commerce, marketing, supply chain and systems teams drove a successful holiday period across multiple metrics, sale, in-stock and guest experience.

To recap our fourth quarter financial performance; total sales increased 9.7% or 16.2% adjusted for last year's 53rd week. We achieved our best comp sales performance of the year with 9.4% comp on top of an 8.8% comp in the fourth quarter of 2017. The strong performance was driven primarily by transaction growth with meaningful improvement in the retail traffic trends. Diluted GAAP earnings per share of $3.61 grew 6.2%, compared to $3.40 achieved in last year's 14-week fourth quarter, or 31.3% excluding the benefit from tax reform related items in the fourth quarter of 2017. We delivered these results by executing on our strategic imperatives and I'll provide an update on each starting with our strategies to increase loyalty and evolve our brand.

Our Ultamate Rewards Loyalty program remains one of our most valuable assets. Membership at the end of the year reached 31.8 million active members representing active member growth of 14.4% compared to 2017. Our store team sustained focus on conversion benefited from robust store traffic during the quarter. As we anniversaried the launch of our elite Diamond tier [ph], we are pleased to see the number of guests that attain Diamond level was ahead of plan with very high guest engagement. The latest loyalty program benefit was launched at the beginning of the new fiscal year with a new perk [ph] offering our guest the ability to use points on all skin, brow, makeup and hair services, and guests are loving it.

We've been talking about personalization as the next frontier of loyalty. We're currently focusing our efforts around personalization by incorporating relevant product recommendations and replenishment reminders across digital channels with much more of the works in concert with our acquisitions of QM Scientific and GlamST last fall. I'll cover more on this topic in a moment when I discussed the digital innovation. Our credit card program exceeded expectations in 2018 with penetration of credit card sales reaching double-digits. Success here was driven by outstanding store associate engagement, effective acquisition campaigns such as gifts with application, seamless integration into the loyalty calendar, and strong support from internal and external partners. Gift card sales grew 24% in the fourth quarter and this healthy growth helped fuel strong post-holiday sales. Increases in our third-party distribution network drove much of this growth with a total third-party door count now surpassing 50,000 distribution points.

Benefiting from our holiday marketing campaigns Q4 brand awareness maintain all-time high levels reached throughout 2018 at 55% for unaided and 90% for aided awareness. Brand awareness showed momentum across all generations with particular strength among GenX and GenZ shoppers, as well as progress with our Latinas and African-American Beauty enthusiasts. We also continue to drive a stronger emotional connection to our brand as a result of our marketing and public relations efforts to advance our new brand purpose, the possibilities are beautiful.

So next, I'd like to share an update on our strategy to delight our guests with our merchandise assortment focused on innovation, differentiation, exclusivity and speed to market. Newness continue to drive traffic and share gains across all categories. Products that worked in the assortment a year ago drove about 4 points of our total company comp. Top performing categories were mass cosmetics, prestige boutique brands, fragrance and prestige skincare. Smaller departments like accessories and sun care also delivered double-digit comps. The makeup category overall through the lens of mass and prestige cosmetics combined, comps exactly in line with the house. Our strategy to be the partner of choice for digitally-native brands like Morphe and Kylie cosmetics are paying off. Both brands drove very strong traffic in stores suggesting our guests are motivated to make more trips to the store to try these products in person.

Despite a tough comparison to double-digit comps in the fourth quarter of last year, mass cosmetics accelerated to be our best performing category in the quarter with Morphe, Revolution Beauty and e.l.f. leading the way. Building on the success of changes to the assortment we made a year ago, we just reset the mass cosmetics area again with more space dedicated to the fastest growing brand. Morphe expanded to a larger footprint in most stores and is having great successes with collaboration's with mega influencers Jaclyn-Hill and James Charles. Morphe recently launched it's Fluidity Foundation in 600 doors featuring 60 shades, and we also just launched a Morphe makeup fresh collaboration with Jeffree Star, another high profile social media influencer with a 11.5 million Instagram followers.

We also expanded ColourPop to 250 more stores, now available in nearly 800 stores. Other brands that earned expansion to either more doors or more shelf-space include e.l.f, LA Girl, Milani, Wet n Wild and BH Cosmetics. Comps remain very healthy across Benefit, Clinique, Lancôme, and MAC. We rolled out 692 prestige boutiques in total for 2018, and plan to expand the presence of these four brands in many additional doors in 2019 in various expressions in our stores including present in line, on wall presentations, on end-caps, and in impulse pictures.

In the rest of the prestige cosmetics portfolio, top performers included Estee Lauder, Kylie Cosmetics, Nars and Tarte. We have a lot of exciting newness across the portfolio that's encouraging for this categories performance in 2019.

Key launches include Tarte's face tape foundation inspired by the iconic best-selling shape tape concealer; Sugar Rush, and exclusive sub-brand from Tarte specifically created to target the GenZ beauty enthusiasts; a new brow program and new Naked palette from Urban Decay, and the launch of new brands, Smith & Cult and Grande LASH. We're also highlighting trends more visibly in our store with a focus on clean beauty with a vegan beauty end-cap, and the expansion of our “Hottest in Beauty” section in-store. This was launched last fall's end-cap showcasing new hot digital brands like Lime Crime, Ofra and Sugarpill, and is moving in-line this quarter.

To update you on Kylie Cosmetics which launched in mid-November, we experienced very strong sell-through on the 28 lip products we offer, and were essentially out-of-stock for few weeks at the end of the quarter. This positive brand clearly drove store traffic and new customer acquisition with an uptick in younger more diverse guests. The product began flowing back into the stores in late-January and we're currently in a much better in-stock position. This week several new items are setting to add to the original assortment including eye shadow palettes, and some additional lip products.

Fragrance had a banner year capped with a strong fourth quarter performance that drove double-digit comps. These results were underpinned by our holiday, marketing and gifts repurchase programs, as well as the success of our Fragrance Crush program which highlights the fragrance each month. KKW Fragrance, launched exclusively in brick-and-mortar at Ulta Beauty before holiday, was a standout in the portfolio. YSL, Versace, and Ulta Beauty exclusive Ariana-Grande fragrances we're also among the leading brands driving our growth in fragrance.

The prestige skin category delivered solid growth led by strength from Mario Badescu, First Aid Beauty and Proactiv. We're broadening our brand portfolio with the addition of new brands like Urban Skin RX, a line of clinical skincare products designed for women of color; Fountain of Truth, a clean cruelty-free line developed by Giuliana Rancic; My Clarins, an exclusive line of Vegan skincare products from Clarins; and Cannuka, a skincare line infused with CBD and honey. We've also added a curious assortment of Kiehl’s products in all doors in our impulse picture, and all new stores we opened this year will offer the full Kiehl’s product line.

The overall hair care category also delivered solid growth with broad-based strength across core professional hair care brands, and a successful promotion featuring jumbo sizes of pro-hair products. Consumer interest in SugarBear hair vitamins was a highlight in the mass hair category.

In summary, the team has done a fantastic job evolving our offerings across the entire box and making sure we have the right brands and products to delight our guests to create constant newness.

Now, let me update you on our services business. Salon comp sales rose 6.2% driven by average ticket increases. Total salon revenue increased 4.7% compared to last year's fourth quarter with an extra week of sales. The salon teams benefited from the healthy traffic in our stores and drove strength across all the major service categories including color, cut and style, blowouts, hair treatments and makeup. We're seeing encouraging results from the regions that have rolled out our services optimization platform, and plan to implement this program for the entire chain in the second quarter. The hallmarks of the services optimization program are compensation designed to attract and retain top talent, industry-leading internal training and education, simplified menus, transparent pricing, and an enhanced field team focused on business and technical training in each district.

We continue to test our new salon appointment booking tool and partnership with technology startups, Spruce, which has developed and enhanced tool for booking appointments for all services including hair, skin, brows as a Benefit Brow Bars, and makeup with MAC artists. We expect to rollout the booking tool with further enhancements in 2019. Our Ulta Beauty pro-team won the prestigious NAHA or North American Hair Award for the salon team of the year for the first time this year. Both the Ulta Beauty pro-team and the Ulta Beauty design team were nominated in this category. This type of recognition highlights Ulta Beauty as an industry-leader and authority in salon hair care raising our profile and helping us attract high-quality stylists.

Now I'll turn to store growth. We opened 11 net new stores in the fourth quarter compared to 16 last year, and ended the year with 1,174 stores. New store productivity remains very strong. We plan to open approximately 80 stores this year, the majority in suburban strip centers and power centers. The 2019 plan anticipates about three quarters of the new store portfolio in existing shopping centers, and a quarter in new centers with almost all stores filling in the markets compared to just a couple stores in new market. Our real estate strategy is evolving to focus on portfolio management with heightened attention at lease renegotiation, evaluating repositioning, relocating or closing stores at the end of leases, and continuing to remodel and upgrade storefronts and pile on time to ensure consistent branding and shopping experiences across the portfolio.

Moving to our e-commerce business; Ulta.com grew comp sales 25.1% on top of 50.4% in the fourth quarter of 2017, and contributed 240 basis points to our total company comp driven by transaction growth. Total site traffic rose 33% with mobile site traffic growth up 31%, and mobile app traffic up 49%. We're driving healthy growth of our omnichannel members with loyalty member shopping both, retail stores and Ulta.com increasing to 12.1% of guest for 2018 compared to 10.4% in 2017. Our e-commerce growth rate was a bit softer than our guidance at mid-30s which we attribute primarily to reverse channel shift in light of our guest's avid interest in coming to the store to see and try makeup from digitally-native brands like Morphe and Kylie Cosmetic. All of the moderation in our e-commerce growth rate came from the cosmetics category across both, prestige and mass.

We made the strategic decision to emphasize our in-store offerings with these newer brands, with a broader assortment in more inventory allocated for highly anticipated launches like the James Charles palette. As a result, the strength of these digitally-native brands was even more concentrated in stores than we planned. Another factor in the top line moderation for Ulta.com relates to e-commerce's higher sensitivity to promotional offers. We felt a bigger impact to our online sales as a result of being less promotional year-over-year. We continue to see strong guest adoption of our buy online pickup and store initiative. We're expanding focus from the 47 stores that launched in late 2018 in plan to deploy for the full chain this summer.

Turning to digital innovation highlights; following the acquisitions of GlamSt and QM Scientific last fall, we're pleased to report that both teams are integrating very well into the Ulta Beauty team. We've migrated our personalization platform to Google Cloud, and are bringing to life product recommendations and adding more data such as reviews and clickstream data to amplify our understanding of our guest behaviors. We're also working on conversational commerce and AI-driven communication to automate common guest service enquiries on topics such as birthday gifts and loyalty points.

Glam Lab, our virtual try-on app recently launched live video on iOS which will soon be available on Android devices as well. Previously the app offered only static images.With advances in virtual try-on capabilities, we're mapping out linkages between AI and try-on app that will have applications in areas such as skin diagnostics or finding the perfect foundation. As a reminder, we won't be breaking out detailed quarterly e-commerce metrics starting in 2019 but we'll continue to provide color in e-commerce trends and it's contribution to our growth.

Lastly, I'll provide an update on our supply chain strategy. Our supply chain team and operations performed very smoothly during the busy holiday season, and delivered excellent in-stock levels while controlling overall inventory levels. Inventory per door grew 1.3%, well below the comp growth rate, as we leveraged core systems such as Swift to improve inventory productivity. Our Fresno DC is ramping up more quickly than our previous DCs, now serving 235 stores and 21% of e-commerce orders. We're winding down our Phoenix distribution center which will officially close later this month; the teams there have done an excellent job transferring inventory into our remaining network and wrapping up the facility closure with minimal disruption ahead of the lease expiration at the end of the month, as well as assisting in smooth transitions of our associates into the local job market.

We're excited to announce that we're in the process of converting our Romeoville, Illinois distribution center into Ulta Beauty's first fast fulfillment center planned to open this summer. A second FFC is in the works and expected to open in the summer of 2020 in Jacksonville, Florida. Fast fulfillment centers serve only e-commerce orders and will be able to fill up to 30,000 orders per day during peak times increasing our network capacity and progressing towards our goal of 2-day e-commerce shipping by 2021. Another initiative to speed delivery to our e-commerce guest is our ship-from-store project. We plan to launch a test of ship-from-store 5 locations around the country in the second half of the year.

So with that, I'll turn over to Scott to discuss in more detail the drivers of our fourth quarter financials, and outlook for 2019.

[Scott Settersten, Treasurer & CFO]

Thank you, Mary and good afternoon everyone. Starting with the income statement; our 9.4% comp along with strong new store productivity and e-comm growth drove revenue growth of 16.2% adjusted for the 53rd week of the fourth quarter of 2017. The revenue recognition standard adopted at the beginning of 2018 contributed about $15 million of revenue. As a reminder, this represents the combined impact of income from our credit card program, gift card breakage, and the timing of recognition of e-commerce sales offset by the value of points earned in our loyalty program. We enjoyed the strongest traffic in several quarters with transactions up 7.1%, and ticket up 2.3% for the total company. The retail-only comp of 7% was driven by 4.9% transaction growth and 2.1% ticket growth. Ticket was driven two-thirds by average selling price and one-third by increases in units per transaction.

On the gross profit line; margin improved 90 basis points year-over-year. The new revenue recognition accounting standard added about 60 basis points to the gross profit line, and the comparison to last year's special bonuses for hourly associates helped by about 20 basis points. The factors driving the modest underlying gross profit improvement or fewer promotions overall, a lower than expected mix of e-commerce sales and strong leverage of rent and occupancy expenses and better than expected sales, offset by investments in our salon business and supply chain operations.

Turning to SG&A, we deleveraged by 90 basis points including 90 basis points of impact from the revenue recognition accounting standard. Underlying SG&A expense was flat on a rate basis due to planned deleverage in corporate overhead related to investments in growth initiatives offset by leverage in marketing and variable store expenses.

Operating margin rose 10 basis points year-over-year to 13.3% of sales including the negative impact of 30 basis points attributable to the revenue recognition accounting change. This was above the 20 basis point impact reported earlier in the year as our guests adopted the ultimate rewards credit card at a higher than expected rate; this in concert with stronger than expected Q4 sales resulted in guests earning more royalty points requiring us to defer more revenue.

Moving on to the balance sheet and cash flow. Total inventory grew 10.9% and was up 1.3% on a per store basis, well below comparable sales as we continue to realize efficiencies from improved systems and processes. Capital expenditures were $319 million for the year driven by new store opening program, supply chain, systems and merchandise fixtures. CapEx came in a bit below expectations due to some early savings on store fixtures resulting from the efficiency for growth program, as well as the timing of some planned IT and supply chain spending that will now fall into 2019.

We ended the year with $409.3 million in cash. We repurchased 2.464 million shares at a cost of $616.2 million or an average share price of $250 for the full year to our 10B51 program. We stepped up our repurchases opportunistically in the fourth quarter to take advantage of our better than expected cash flow generation, as well as market volatility late in the year. $46.1 million remain available under our $625 million authorization as of the end of the year. Today we announced a new share repurchase authorization for $875 million with plans to repurchase approximately $700 million in fiscal 2019.

Turning now to guidance for 2019. Our outlook for this year is consistent with the long-term outlook we provided at our November Analyst Day. We plan to open approximately 80 new stores, all our traditional 10,000 square foot prototype. We plan to remodel 12 stores and relocate 8 stores, as well as execute 270 store refreshes or mini remodels, generally entailing the addition of new brands and improving overall fixed rate. We anticipate driving top line growth in the low double-digits with total company comparable sales planned in the 6% to 7% range. We expect e-commerce to grow in the 20% to 30% range contributing approximately 200 basis points to comparable sales. We expect to deliver earnings per share in the range of $12.65 to $12.85 with approximately 10 to 20 basis points of operating margin expansion.

The underlying assumptions are to deliver gross profit improvement driven by merchandised margin expansion, rent and occupancy expense cost leverage, and the benefits of our credit card program. These benefits will be offset by deleveraging SG&A due to store labor and investments in growth initiatives and innovation. Areas such as digital innovation, our salon services strategy, expanding our omnichannel capabilities, IT security and infrastructure, personalization efforts, our strategy to pursue emerging brands and initiatives to enhance the guest experience, will as a whole contribute to corporate overhead deleverage.

In terms of the cadence of investments and benefits of these initiatives throughout the year, while we're no longer providing specific quarterly guidance, you can expect EPS growth this year to be slightly weighted to the back half with more of the benefits of the efficiency for growth cost optimization program occurring later in the year. You can expect low-teen EPS growth and modest operating margin deleverage in the first half and high-teen's EPS growth and modest operating margin leverage in the second half of the year. In terms of capital, we plan to spend between $380 million and $400 million; this includes CapEx of approximately $190 million for new stores, remodels and merchandised fixtures, $140 million for supply chain and IT including new fast fulfillment centers, and about $60 million for store maintenance and other.

Depreciation and amortization expense is expected to be approximately $315 million. We expect our tax rate to be 24% which does not include any estimate for the impact of share-based compensation. The fully diluted share count for the year is expected to be approximately $58 million. Our plan assumes share repurchases in the $700 million range contributing about 4 points of earnings per share growth.

And with that, I'll turn it over to our conference call host for Q&A.

[Operator]

[Operator Instructions] Our first question comes from Erinn Murphy, Piper Jaffray.

[Erinn Murphy, Piper Jaffray]

I guess my question Mary is for you. If you could talk a little bit more about how you anticipate some of the personalization efforts you have going on to really be that unlock to driving wallet share higher; any examples you have there? And then Scott, just a clarification on the guidance; you talked about the deleverage first half versus leverage in the second half. Is your same-store sales guidance of 6% to 7%; is that fairly similar throughout the year or is there a difference in first half versus second half? Thank you.

[Mary Dillon, CEO]

Sure, I'll start with the loyalty program and I'll ask Dave to add a couple of bits at the end if you want. But to give you a full answer, I'd say overall, the spend per member growth is going to driven by a lot of things, personalization being one of them, for sure; but we're pleased with how it's been progressing. So really things that we do today like newness, and the perks that we continue to innovate, the credit card program, the tiers like the newest Diamond tier, all are contributing to engagement and driving that -- that's been per member. And as guests maturing the program, their spend just naturally grows overtime as well. Personalization is -- I think we're very much in the early innings on it, very excited about it and it's really about driving more customized experiences. I guess one simple example would be recommendation; so the smarter that we can get about of guest pass purchase patterns and infer her preferences or his preferences based on that, it gives us the ability to serve up recommendations that are even more relevant, for example.

And is there any other examples you want to add?

[David Kimbell, Chief Merchandising & Marketing Officer]

Yes, the other areas we're focused on certainly, you have product recommendation, replenishment reminders; we're adding into that additional customized co-purchase recommendations, site personalization, so customizing your site experience based on your previous behavior. For example, if we see that you're a first-time visitor you'll get a different experience than if you're a frequent visitor, your home page might change, we'll do product finders in unique ways. Really, the purchase -- the acquisition of both, QM Scientific and GlamST was to exhilarate our personalization efforts and we're really excited about the progress and results to-date, and feel like we're going to take a big step towards that goal in 2019.

[Scott Settersten, Treasurer & CFO]

And as far as the comp cadence for the year; I would say generally speaking it's a pretty consistent 6% to 7% throughout the whole year although I would say maybe the fourth quarter you've might take a little bit more conservative approach as we'll be comping over some great kick-offs here with Kylie and James Charles here this last fourth quarter.

[Operator]

Our next question comes from Christopher Horvers, JPMorgan.

[Christopher Horvers, JPMorgan]

So first, on the -- the digitally-native brands; it's really impressive in terms of how it drove that traffic and retail comp acceleration. So maybe diagnose -- was that more Morphe? I mean, it's in more stores; Kylie had a smaller assortment, it was 18 SKUs or something like that and it sold out. So, sort of how would you assess that? And would you expect the Kylie piece to accelerate now that the export assortments are starting to expand and presumably will expand further over the year? And my second question is for Scott also, which is -- you gave a lot of color on cadence; curious on the first half versus back half, how much of that is gross margin versus SG&A? Is gross margin -- as we continue to scale over salon investments, is that the sort of pressure point in gross margin and would you expect that down in the first half?

[Mary Dillon, CEO]

Possibly three questions in one. Listen, we're excited about the momentum on the business, digitally-native brands being a part of it but frankly, really not the only and most major part. I mean we had as I discussed in the script, really strong growth across a lot of -- most of our categories and share gains across almost every single category, and strong double-digit growth across many places. So really I would say that think about those as definitely big launches, Morphe we are ready to launch, James Charles Palette was a nice good addition because we have a strong following, and of course, Kylie was new in a pretty small assortment; so you can expect that. I already said we're expanding that assortment, that's happening right now, and I'd like to think about it as a plethora of ways that we're going to continue to be the source -- I think leader for growth in the category as I'm participating across categories with many brand partners that are both, existing and new.

So I think about it as I guess, sort of -- we're all really focused on what our guests are looking for at the end of the day, and if we can make sure to offer that to them; I think we're going to continue to be in a good place.

[Scott Settersten, Treasurer & CFO]

Yes, so as far as color on the year goes; so we're transitioning into this new sphere right, this new zone of guidance and annual guidance and whatnot, and updating on the quarters. But I know everyone has this question, Chris; so you've got to the buzzer first. So when we look at the year, so modest operating expansion for the full year; it's going to come under gross margin line, it's what we expect and it's going to come through better merchandised margin overall. I think I could point to the clearance event in that second/third quarter time period this last year, we wouldn't expect to have to do that again in 2019, that's not in our plans. You mentioned salon, yes, that will be a headwind but it's not the biggest driver in there; so that will be some deleverage on the gross margin line. DC leverage in the first half of the year is heavier because of Fresno, right; we won't lap that till the middle of the year, and so supply chain will kind of moderate in the second half. And then we've got some good occupancy leverage in there throughout the year but there is a slight shift quarter-to-quarter just because of the new store program, sequences are a little bit different in 2019.

SG&A then is a net deleverage for 2019 and it's primarily coming out of the investments we're making, right, to drive long-term healthy sales and earnings for the business. So the M&A things we did, right, turned into OpEx now, there is a lot of other innovation, Mary went through a long list of things that we're doing to drive the business, and primarily, those things fall in the SG&A corporate overhead, it's really a primary culprit there so to speak on the deleverage.

[Operator]

Our next question comes from Stephanie Wissink, Jefferies.

[Unidentified Analyst]

We wanted to know are you seeing a shift in purchasing from prestige to mass as you continue to add more prestige brands?

[David Kimbell, Chief Merchandising & Marketing Officer]

Frankly, we're seeing strength across the whole make up category. Certainly there is brands across all price points that are doing very well, and there is others that are struggling. So I wouldn't say it's a strength, and one of the -- it's a shift; I will say one of the strengths that we have at Ulta Beauty is what we call mass migration, and bringing a guest in -- a segment of guest in through mass brands and introducing them into prestige brands, that is still continuing, that's quite healthy, it's a unique aspect of the Ulta Beauty experience, that's where the only ones that carry brands across our price points; that behavior is still quite strong. And so brands at all price points from entry level price points such as e.l.f, all the way through our most prestige brands, whether it's Lancôme, or Chanel [ph], are performing quite well. We are seeing strength this mass/prestige area of brands with price points and in between is the growth area but it's not really at the expense of any specific part of the business, it's just attractive right now as some of those brands are stronger at this moment.

[Operator]

Our next question comes from Simeon Siegel, Nomura Instinet.

[Simeon Siegel, Nomura Instinet]

Scott, just recognizing that you lapped at one-time bonus; did any help in terms of thinking through the SG&A dollar growth? I know you had called or I think you mentioned wage, so just any thoughts there? And then, are you guys seeing -- I don't know if you had mentioned it, as you think about the digital natives and as those grow, is there any difference in terms of the in-store versus e-comm performance relative to the rest your portfolio? Thanks.

[Scott Settersten, Treasurer & CFO]

Yes, we don't really characterize or describe SG&A in growth year-over-year, I know others in the department store and other spaces do that. But if you know, just color on SG&A overall, again, it's going to be a net deleverage point for the full year. Heavier maybe the first part of the year as we still got some of the investments that were late. Starting in 2018 we had heavier deleveraging corporate overhead in the second half of 2018, and some of the investments and growth initiatives kind of -- we got out of the gate a little bit slower in 2018 than we had planned to do; so that will continue into the first half of 2019. Store labor, we'll continue to make investments there to drive growth strategies there but I think that gets neutralized a lot by some marketing leverage we expect to close on in 2019. So we're in a good spot overall, we believe; well managed and doing the right things for the business for the long-term..

[Mary Dillon, CEO]

And then to your other questions; I would say it's sort of -- it depends. Overall, the digitally-native brands are performing well both online, and we're bringing them into the store. So thinking on what we just saw in the last quarter, it's a little bit about how we how we choose to play it, frankly. As we went into this quarter, we emphasized those two, Kylie and James Charles launches more in store, frankly, and it really drove a lot of in-store traffic. They are also doing really, really well online but we had a bigger assortment in-store. And so I would say that you know we also have brands that was the only online that do quite well; so for us it's about -- I think it actually is a good proof point about the basic pieces of our business which is that the physical experience of trying products in person really appeals to a lot of our guests. And then, they also want to be able to buy it online and be convenient as well. So it's an interesting time for us to say how do we kind of meet the guest where she is, think about how what's best for our business; but I don't see any reason why we can't be successful in both channels.

[Operator]

Our next question comes from Steve [ph] Forbes of Guggenheim Securities.

[Steve Forbes]

I wanted to focus on the refresh program. I believe 270 is a side step-up versus the trend line over the past couple of years here. So maybe just touch on what the store level needs are; I know you mentioned new merchandise in fixtures and etcetera but maybe just focus on with the store level needs are that are driving this ramp? And what the typical refresh will include as it relates to that merchandise focus?

[David Kimbell, Chief Merchandising & Marketing Officer]

The primary purpose of this year's refresh program is really to continue to expand some key brand partners that we have. As we go into these stores, we'll -- in some cases address opportunities to enhance or improve or repair certain parts of the store. But we see a big opportunity for us to continue to expand with key brands. And what's going to be a bit different maybe this year versus years in the past when we think specifically around some of our brands like Clinique and Lancôme is we'll be expanding them into a variety of different expressions. In some cases, in a boutique, as you've seen and come to know at Ulta Beauty, but in many cases, in different expressions, whether that's in gondolas, on walls, on endcaps and other parts of the store. So that's the primary focus of that -- of this year's rollout and improvement with our stores.

[Scott Settersten, Treasurer & CFO]

And Steve, just from a quantitative standpoint, if we think about it in terms of the total fleet investment, so if you compare new store, 100-plus last year, the 80 next year, the remodel boutique kinds of activities that we have and the merchandising fixtures in general that we're always refreshing our stores, right, in one fashion or another. I think it's actually a step down net CapEx year-over-year, if you look at it that way. So again, it's a key focus for us. Keep that store fleet looking fresh all the time, keep it in writing and making sure we're delivering the best guest experience that we can.

[Operator]

Our next question comes from Simeon Gutman, Morgan Stanley.

[Simeon Gutman]

My question is on traffic and ticket. It looks like during the year, ticket actually decelerated and traffic increased. You mentioned in the fourth quarter this reverse channel shift. Can you talk about it for the rest of the year, in, '18? Should we expect the reversal of that? And then, just as a second part, what's embedded in the 6% to 7% as far as AUR growth for 2019?

[Scott Settersten, Treasurer & CFO]

Yes, so as far as the traffic trends go, I mean, we know we struggled a little bit and we had some headwinds early in the year and we picked up momentum, we saw that, we are on it, we're -- you know, the merchant team and all the support partners are working hard to make sure we bring the best that we can; that our guests expect from us and as it's going to generate excitement whether it's in-store or online. So again, going into every quarter, going into every year; our expectation is to drive a healthy balance between traffic transactions, and to take a growth overall with no -- I wouldn't say any one specific expectation for any one of those elements, right.

So again, earlier in the year some of the newness didn't deliver, didn't drive as much excitement in either of the channels as we'd hope for. We found more winners in the back half of the year and that drives traffic, whether it's online or in-store.

[Simeon Gutman]

And the AUR part; I think in the fourth quarter you mentioned that AUR was about two-thirds of the ticket growth, and I don't know if there is a number you can share with us that you expect in 2019 sort of -- I think of it almost as a headstart as part of that 6% to 7% comp outlook.

[Scott Settersten, Treasurer & CFO]

Yes, I think sometimes we try to over-engineer our financial models. Again, it's always a healthy balance whether it's ticket versus traffic or it's units versus average selling price. Again, at the end of the day these products get hot and things happen that you can't control, right. The guest is going to determine how they want to spend their money.

[Operator]

Our next question comes from Adrienne Yih, Wolfe Research.

[Adrienne Yih]

Mary, my question is on the loyalty program. I was wondering if you can share with us the percent of Platinum clients that are actually converting to Diamond? And then are you seeing a replenishment of the Platinum membership? And then really quickly for Scott, inventory has been growing slower than sales for the past four consecutive quarters; I'm wondering if that's a sustainable spread go forward? Thank you very much.

[Mary Dillon, CEO]

We don't really break that out specifically. I'll tell you, we feel really good about the Diamond launch, it's ahead of -- I guess, I would say it's ahead of what we expected so far which is fantastic because folks are our best guests, in terms of being omnichannel guests, services guests, high share of wallet, etcetera. And we're seeing overall throughout the loyalty set of folks, this is a mature -- they spend more, and so we're going to have more folks moving from platinum to diamond. And our job is to continue to entice them to spend more to everything that we do every day, and I think all that's working really well. So as I mentioned, whether it's newness, new perks; we're just started with being able to use loyalty points on services and that seems to be very appealing. Credit card growth, then the additional ability to use personalization tools; I think we feel good about where we are.

[Scott Settersten, Treasurer & CFO]

As far as inventory goes, I think we address some of that at Analyst Day here back in November, so yes, we expect that we're still in the early stages. I mean, I think it's evidenced, the metrics you refer to are now, again -- I don't know that I'd be able to draw a line and continue for perpetuity, some of the performance we've seen here most recently but we believe we've got the tools and the capabilities in place now to definitely do a lot more by way of optimizing our inventory over the long-term and margin results there are coming from being able better to control the flow or more automated kind of markdowns, doing better with our transitions and our assortment decisions. So we still think there is a long way to go there.

[Operator]

Our next question comes from Michael Goldsmith with UBS.

[Michael Goldsmith, UBS]

So you mentioned that newness drove about 4 points of the comp; can you help us quantify how much of an acceleration that was -- is this level sustainable? And then on the channel shift to the retail store assist this quarter; that changed the way you think about product and brand launches in the future? Thanks.

[Mary Dillon, CEO]

I don't know if we would break out in the past or you can help me with that. Looking at it in the past, it was maybe one-third or maybe a little bit higher than that; so it's not a dramatic increase but it's someway accelerated, some of the James Charles, and some of the Kylie product. And the goal is to always drive as much comp as we can, so I mean, I can't -- we can't predict that would be a continued trend. I mean that was a bit of -- it worked great but I wouldn't say that we'd expect it to be ongoing at that level but our merchant seems constantly out there, there is also some newness all the time and that's what our guests really want, and I think we're doing a good job of delivering that.

And as for the channel shift; I guess in some ways we're kind of learning as we go. As I said, I was -- we're being very direct about the fact that the e-commerce growth was somewhat different than we expected this quarter because sort of high class probably have -- we have more people shopping in the stores, and I think it's interesting again, proving the thesis that the in-store experience is extremely important sometimes as well. And so I think we'll just continue to be strategic and tactical about how we think about launches, and it's going to vary, there won't be any one formula I think I'd say but I think it's good that we have options.

[Operator]

Our next question comes from Michael Binetti, Credit Suisse.

[Michael Binetti, Credit Suisse]

So you guys came out of the quarter with good momentum in the comp and it looks probably conservative to us -- but I guess the outlook looks probably conservative but I guess the margin break in fourth quarter was a little different than we thought, SG&A flow through is a little lower on a lot more revenue. I guess, I'm just trying to think forward a little bit related to leverage rates; given that the guidance you just gave us sounds like it has some investments in the base right now that are leading to little bit more margin expansion later in the year but if you do -- if the momentum today means you're going to have better sales than we have in the same-store sales guidance this here. How should we think about how you guys approach -- how much flows through to the bottom line this year versus dialing up the investments even more?

[Scott Settersten, Treasurer & CFO]

We've been investing for a long time, right Mary? I mean, for multiple years now and it's a moving target, Michael, you know that. Retail is a very dynamic environment, so we talked -- I think I referenced supply chain and maybe a little bit less deleverage in the back half for the year but we're still making big investment through fast improvement centers and other tools and things we're putting in place to help our teams perform better day to day. So the investment never ends, right; in air quotes I guess I would say. So -- and we're pragmatic, whenever we're looking at the quarter and we see sales strength, there is an opportunity to pullback on promotional cadence and things like that. So we're just -- every quarter and every year present it's own unique set of elements that we try to navigate through and just deliver the best overall results.

[Michael Binetti, Credit Suisse]

Could I ask a quick follow-up Scott; so I think you guys -- I think one of the most interesting parts of the quarter was the change in language on the merch margin and today it sounds like the plan is for that to be positive. I think more recently the plan was to manage towards a flat merch margin, and frankly, at times it sounded like that was going to be an aspirational goal. Do you mind telling us what's changed when you've seen that's giving you the confidence in here we can actually guide to and manage to a little bit better merch margin than we've spoken to more recently?

[Scott Settersten, Treasurer & CFO]

Yes, I’d say the primary driver is around Efficiencies For Growth or EFG, so again, we haven't spoken to that directly today. But that's an umbrella over the whole enterprise, right, and so there is a lot of benefits to that that are going to flow through both the gross margin line and the SG&A line; it's going to help us offset cost pressures that you see all retailers talking about, whether it's innovation things or digital things or wage rate pressures or freight pressures, I mean there is a whole list of things that we're navigating our way through here. So EFG, I think Adrienne asked a question here earlier about inventory, so that's a key piece of what's going to help merchandise margin; it's not just the outdoor selling margin, it's how we work with our vendors more efficiently and optimize a lot of what I call the core process internally around the merchandise assortment, and how we transition our stores, and how much store labor gets incurred to execute some of those things, and our partners we work with, and all of the economics that go along with that. So that's really it driving our assumptions around better merchandise margins here in the foreseeable future.

[Operator]

Our next question comes from Mark Altschwager, Robert W. Baird & Co.

[Mark Altschwager, Robert W. Baird & Co.]

You highlighted how Kylie essentially sold out later in the quarter and it took some time to replenish; and I'm wondering is that sellout or scarcity going to become a bigger component of the model as you lean in to these -- to the digitally-native brand strategy? And if so, how should we think about the implications for merchandise margins longer term? And then separately, I'm just wondering what percent of your assortment today you would say is unique to alter and where you see that metric headed over the next one to two years? Thank you.

[Dave Kimbell]

Mark, on Kylie, I guess I wouldn't say that there is a one-size fits all solution to that. I think with Kylie we anticipated potentially having out of stocks late in the quarter, it actually happened little bit earlier as reaction consumer reaction was a bit more positive than we anticipated. And it's not our ideal scenario but it was one that we had planned on for this specific launch. As we look forward with other brands that are in our portfolio, that's not -- we're not experiencing out of stocks on a consistent basis and that's not something that we would certainly want to make a practice or a habit but there will be instances on brands as they're either building their capacity or the timing makes sense that we may experience that. But I wouldn't think of that as now that's the new normal or a new way for us to approach it; so that in and of itself shouldn't have an impact going forward.

As far as the percent exclusive; we've talked in the past in the 6% to 7% range, we'll continue to try to grow that. Overtime I think as we bring in new brands like Kylie that becomes a bigger part, and a big focus for us as we look at new brands whether they're larger existing brands or new emerging brand just to drive as much exclusivity as we can, our guests respond favorably to that; so whether we're the absolute only place or it's in very limited distribution, that's a focus for our merchant team and one we're having a lot of success on. So we plan to continue to grow that number going forward.

[Operator]

Our next question comes from Omar Saad, Evercore ISI.

[Omar Saad]

Stepping back at high level most of my detailed questions are answered already, but stepping back at the high level here; you've got such kind of broad-based strength in your business, you seem to be hitting on a lot of cylinders, you've got a lot of great things in the pipeline, you seem to be really managing that balance between online and offline. Is it -- as you gain more, I imagine this is giving you a lot more confidence in the business; as you gain more confidence in the business does it help you think maybe a little bit earlier looking ahead towards longer term opportunities such as international as you just get better and better what you've been doing enough or is it really still there is so much to do here in the North American market and in the U.S. particularly, that type remains your focus? Thanks.

[Mary Dillon, CEO]

It's a great question and certainly something we work on all the time thinking about both, the short-term, literally the next day, the next quarter and 10 years from now. So I'd say first and foremost, I think there is a lot of things for us to do to continue to drive growth in our core business model and that's what we're really, really focused on. So we've got a lot of stores to build, lot of stores to remodel, we're focused on frankly, what should the experience of the future be like online and in-store; and in some ways we've gotten started but there is a lot more that we can and will do there because we don't rest on our laurels, no fun intended, but we fully would expect that -- what guests would expect in the future in terms of a retail spirit that's just going to continue to change. So there is a lot of what we're focused on is continuing to do what we do well today and then think about how to invent the future of our core model with confidence.

And I do feel that we feel that if we play our offense which is really deep understanding about our guests, we really -- treating our associates well with a culture that seems to be working and positioning Ulta Beauty as a really inclusive beauty retailer and everything that goes with that, we think we're on the right path. So at the same token we're absolutely thinking about what is the longer term future look like to continue to drive shareholder returns and there is many ways to think about that. So that hasn't changed, we're not announcing or doing things differently today but that's a fair question, and one that we worked on.

[Operator]

Our next question comes from Michael Baker, Deutsche Bank.

[Michael Baker, Deutsche Bank]

I guess, I'll ask this one; gross margins -- you went through a number of drivers; I don't remember and forgive me if I missed it. Did you talk about mix towards e-commerce as a potential drag? I don't think you did, in the past you have, and so is it that that's no longer going to be a drag because the margins there are catching up or it's just offset by other things there or too small to matter?

[Scott Settersten, Treasurer & CFO]

No, that's built in there. When we're talking about merchandise margin expansion, 2019 specifically; I mean, we're -- that nothing's really changed there, the underlying economics of that channel of the business. So again, pressure on the gross margin line but on the EBIT line, right stores in e-commerce are much -- it's a much closer horse race overall. So again, what we saw in the fourth quarter, right, a little bit more moderate e-commerce growth is good news on the EBIT line; so stores still drive a better variable contribution overall. But again, back to the big picture, we have to do both well; we're going to -- we'll take whatever emerging characteristics come from either and try to drive the best result we can.

[Michael Baker, Deutsche Bank]

And since I waited this long, I'll try to slide it in a second one if I could. Just on the competitive environment, a couple of -- at least one of your big suppliers and even a competitor talked about slowdowns in the fourth quarter; you clearly didn't see it, so you're taking share. Can you just describe the different channels within the competitive environment, department stores, drugstores, online etcetera; what are you seeing?

[Dave Kimbell]

Yes, we feel really positive overall and obviously in the fourth quarter we're very pleased with our results. And as we look across the competitive landscape, again, we talked about this in the past where beauty is a very attractive category, we are very respectful of our competitors and they're all doing some really interesting things; so we watch across all of them and they're all -- whether it's in the mass segment or prestige or online competitors, are certainly formidable and driving changes. We've -- as we look across the marketplace, there have been some shifts in reported metrics around the category, fortunately at Ulta we feel like our collection of products, the balance assortment that we have across categories and price points, the guest experience that we deliver was able to kind of navigate our business through any changes in the broader marketplace, and frankly be a leader in that. And that's what we're focused on continuing to do, and play offences; we deliver a great experience to our guests going forward.

[Operator]

Our next question comes from Daniel Hofkin, William Blair & Company.

[Daniel Hofkin]

Just a couple quick questions, quickly on the gross margin. If we kind of corrected for the channel shift, exclude that factor; it kind of seems like the promotional backdrop was fairly steady and maybe your merchandise margin also was pretty steady, again correcting for the channel shift. Is that a reasonable interpretation and can your view on that in the near-term? And then secondly, if you could just update us on your thoughts on kind of the urban store opportunity overtime; it would be great to hear any thoughts you might have on that. Thanks.

[Scott Settersten, Treasurer & CFO]

So as far as the margin characteristics; I think that's a fair way to look at it. I mean, we didn't get into much in the detail here I guess in the Q&A on margin. But I mean mix always plays a significant role in what the financial outcomes are; so product mix -- now fragrance and mass color, we pointed out we're stronger, we're taking share there, those are slight rate headwinds for us overall, but again, we'll take that any day of the week great with the sales increases that we saw. And then we just mentioned the channel shift, so e-comm was a little bit more moderate than what we expected, and actually that's good news in the short-term. So we get a little bit of a tailwind on that on the EBIT line. Merchandise margin, part of it -- so we pull back on promotion, right, we talked about that. Again, people get a little bit overly focused on that 20% off-coupon but there was an add-back, there are the loyalty points, don't forget we call that out in our remarks that hurt us a little bit more than we were expecting.

But again, that's fantastic news, great for long-term investors, people are engaging in our credit card and our loyalty program and they earned more points than we expected which are great, a little bit in the short-term; but all those guests are coming back in the next few months to use those points in our stores or online. So we think that, we -- again, we think that's the fair trade.

[Mary Dillon, CEO]

Yes, and I'll just jump in, Dan, on the question on urban stores; it kind of depends on how you define urban, there is a lot of different ways to describe it. So the vast majority of the stores that we have planned to build; I guess you consider sort of non-urban, more in our traditional kind of power centers; but we have plenty of urban stores or city stores that we like and they are doing well. I'd say the addition of more flat urban complex, a more high profile stores like the Manhattan upper east side of Michigan Avenue has also been great in terms of just expanding awareness and presence of Ulta Beauty as a retailer. But those kind of things have a different cost scenarios in terms of how to run them, and so we're just going to continue to be really selective, and there is going to be spots where we like the footprint, we like the parking, we like what's around us and there will be few and far between I think as really our model tense is not be super urban and does fine.

[Operator]

Our next question comes from Ike Boruchow , Wells Fargo.

[Ike Boruchow]

Just a quick question for Mary or Scott; just -- I think 2 or 3 years ago you guys targeted 10% of sales for your e-comm business; you're above that now but it looks like the growth rate is also starting to change. The quick two questions is; can you give us an update of where you think that penetration ultimately should go over the next couple of years? And then more specifically, if you are in a situation where the e-com growth rate is decelerating a bit while the store comps are actually accelerating, Mary to your point earlier in the call; does that change your view of the ultimate margin of the business, meaning, getting more sales out of a higher margin channel for Ulta versus the e-commerce channel? I guess those are my two questions on e-communications.

[Mary Dillon, CEO]

Well, I would say first of all, the e-commerce -- the way we guided for this year is consistent with roughly where we're feeling we looked at our longer term plans that we're off a very big base now, we'll be approaching $1 billion in sales, and so we naturally expected that to moderate. And so I don't -- I think the fourth quarter may have been a bit of an anomaly, we'll see in terms of that dynamic. But again, I think our job is to just stay smart and flexible with the levers that we have and understand the dynamic that's happy from a consumer behavior perspective. There is no way or shape perform that the importance of e-commerce as a channel is going to diminish, it's only going to grow; and so we need to continue to make sure that we're a great omnichannel retailer, as well as a great brick-and-mortar retailer. I think it's kind of the best way to answer it. And then the…

[Scott Settersten, Treasurer & CFO]

I don't really think there is anything -- my crystal ball out here on the table as far as margin characteristics over the long-term; again, I'm a conservative person by nature, I'd say there is inherent headwind built into that piece of the business regardless of the scale -- at least the scale that we're talking about here is a specialty retailer. And so, again, we're working hard every day with tools, with our supply chain roadmap build out of facilities to get closer to customers, maintain maximum flexibility as things continue to evolve there and just hoping that we make smart decisions along the way.

[Operator]

Ladies and gentlemen, we have reached the end of the question-and-answer session. And I would like to turn the call back to Mary Dillon for closing remarks.

[Mary Dillon, CEO]

Great. I'd like to wrap up by thanking our 45,000 associates for delivering an excellent 2018 and seeing of 2019 to be another year of strong top and bottom line growth. I think our team is really well positioned execute on a host of growth and efficiency initiatives to drive the long-term success of our business, and create significant shareholder value. So I look forward to speaking with all of you again soon. Thank you.

[Operator]

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.